RALEIGH (April 3, 2013) — The first comprehensive legislation on tax reform introduced in the Senate for this session would eliminate North Carolina’s current progressive income tax bracket, resulting in a tax cut for most high-income taxpayers and a tax increase for many low-income taxpayers.

Senate Bill 394, entitled “Lower Tax Rates for a Stronger NC Economy,” proposes changes to the personal, corporate, franchise and sales tax, while also eliminating exemptions and loopholes and lowering all rates, according to a new report from the Budget & Tax Center, a project of the North Carolina Justice Center. The bill, filed by Senators Clodfelter, Hartsell, Jenkins, and Meredith in March, would cut the corporate income tax rate to 6 percent, expand the base of the sales tax to services and lower the rate from 4.75 to 4.5 percent, and make changes to the state’s franchise tax.

The bill would also create a flat tax rate at 6 percent for the personal income tax, including a zero-percent tax bracket on the first $11,000 of income benefiting all taxpayers. Yet extensive historical data shows that flattening the personal income tax’s rate structure does not improve economic growth, the report said, nor does it aid the tax system in achieving long-term adequacy. In addition, the shift to relying on the sales tax to produce roughly the same overall revenue means that the bottom 80 percent of taxpayers would pay slightly more on average while the top 1 percent would see a tax cut on average under the plan.

“As North Carolina’s policymakers debate proposals for state tax reform, it will be important that they heed the robust evidence that tax cuts are a poor strategy for growth and instead focus on fixing the upside-down nature of the tax system,” said Alexandra Forter Sirota, director of the Budget & Tax Center and author of the report. “Doing so would provide policymakers with the resources to make investments that support the state’s economic growth.”

The zero-percent tax bracket is a costly way to address the state’s regressive tax system, particularly compared with the Earned Income Tax Credit, another strategy for helping low-income North Carolinians, the report said. The EITC benefits only low-income taxpayers who work, and offsets a taxpayer’s income liability while also addressing their disproportionate contributions through sales and property taxes, unlike the zero-percent tax bracket. The plan is insufficient to protect low-income taxpayers from the disproportionate impact of broadening the sales tax.

While the proposal is supposed to be revenue-neutral – with revenue lost from changes to the personal income tax made up by changes to the corporate and sales taxes – there is good reason to be concerned that the bill could result in a drop in tax revenue, the report said. The changes to the personal income tax represent a significant loss of revenue, and it’s difficult to predict whether changes to the sales and corporate income tax would cover the loss given the variation in the potential impact of the personal income tax change.

“Ensuring North Carolina can invest in an educated workforce, safe communities and sound infrastructure is a fundamental role of our state’s tax system,” said Sirota. “The current plan will impact the long-term ability of the state to make such investments, lock in low revenue collections, and could reduce available revenue immediately.”